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Modeling the Hedging Decisions of a Generator with Market Power
KTH, School of Electrical Engineering (EES), Electric Power Systems.
2011 (English)Conference paper (Refereed)
Abstract [en]

The incentive on an electricity generatingfirm to exercise market power depends strongly on thevolume the firm has pre-sold in the forward or hedge markets.Therefore, in order to forecast the effect of mergersand other market developments on market power outcomes,it is essential to model the hedging decisions ofdominant generating firms. This paper shows that a dominantfirm’s profit-maximizing choice of hedge level dependson the extent to which the hedge price varies withthe firm’s hedging decision. In the case in which the hedgeprice is independent of the firm’s hedge level, the optimalchoice of hedging is an “all or nothing” decision. In thiscase, there is no equilibrium level of hedging in purestrategies. This outcome may explain the observed lack ofhedge market liquidity in wholesale electricity marketswith substantial market power. We also model the equilibriumhedging outcome in a two-stage Cournot oligopolyand show that, even if the hedge price is independent of thehedging decisions of the firms, a rational expectationsequilibrium can exist with high levels of hedging if thereare enough firms in the market.

Place, publisher, year, edition, pages
Keyword [en]
Market power, strategic forward contracting, liquidity, Nash equilibrium, Cournot oligopoly.
National Category
Electrical Engineering, Electronic Engineering, Information Engineering
URN: urn:nbn:se:kth:diva-100470OAI: diva2:543517
Power Systems Computation Conference, PSCC, Stockholm, Sweden, 22-26 August 2011
QC 20120813Available from: 2012-08-08 Created: 2012-08-08 Last updated: 2012-08-13Bibliographically approved

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Hesamzadeh, Mohammad R.
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